Who’s the Boss? A Tough New Independent Contractor Law

Hollywood and, in fact, the entire entertainment industry uses independent contractors as a common practice. In most cases, it seems to make perfect sense; movies and other creative projects are often produced on a one-off basis with crew hired for short periods of time for specific purposes. However, common practice may sometimes be wrong. It is a fact that the independent contractor rules are often abused — even in Hollywood. And that has state and the federal government pretty angry. So angry that they are changing the rules and imposing some serious new penalties for companies that get it wrong.

Why are the IRS, Department of Labor and many state agencies taking aim at businesses improperly using independent contractors? Paying an independent contractor means no wage withholding, no employment taxes, no unemployment insurance, no workers’ compensation, and no liability for pensions and fringe benefits. Even the red tape of nondiscrimination rules can be politely ignored.

When you look at the advantages of using independent contractors and at the nebulous question of who qualifies, it’s no wonder some businesses push the envelope.

California recently passed SB 459 to increase the stakes. It provides in part:

A fine for “willfully misclassifying” an employee from $5,000 to $15,000 per violation.

This fine increases up to $25,000 per violation if there is a “pattern and practice” of “willfully misclassifying” workers.

There is joint and several liability for consultants (but excluding practicing lawyers) who wrongly advise employers on such independent contractor matters.

It’s unlawful to charge misclassified independent contractors any fee or take deductions from the compensation paid to them. This means that companies cannot deduct fees for goods, materials, space rental, services, government licenses, repairs, etc. provided to contractors who are reclassified.

The IRS and state agencies have the authority to conduct extensive audits of a business to determine if the classification of workers is correct. If the IRS or state agencies determine that independent contractors should have been classified as employees, then in addition to fines, the business can be subject to penalties, back taxes, and lawyer’s fees.

These penalties are in addition to existing penalties, interest and taxes for misclassifying contractors.

California’s Labor Commissioner can enforce the law, but Private Attorney General Act lawsuits (where the employee can assert claims on behalf of the government) also seem allowed. Plus, if a business has willfully misclassified an independent contractor, a prominent public notice must be posted for one year on a website or worksite reciting the misclassification.

The passing of AB 459 continues the recent trend of the Internal Revenue Service (IRS) scrutinizing worker classification, and companies using the services of workers classified as independent contractors in California should carefully review the classifications and ensure compliance with the new law.

One troubling thing about this new legislation is that it does not provide any further guidance on the difference between an independent contractor and an employee. To make matters worse, California and federal agencies (Employment Development Department, IRS, Labor Commission, Department of Industrial Relations) have their own definitions and tests as to what differentiates an independent contractor from an employee, so there’s not one qualifying definition on which everyone agrees. There is plenty to confuse businesses. Professional assistance should be seriously considered.

The intent of the new law is to give misclassified independent contractors protection from employers trying to avoid paying minimum wages, overtime, workers’ compensation, unemployment insurance, employment tax and other general labor law requirements. Of course, with the state government’s current financial crises, there is also the suggestion that the law is intended as an enhanced new revenue source for California.

Prior to hiring a new employee or an independent contractor, careful consideration needs to be given to a number of practical and legal factors. This new law emphasizes with exclamation points the importance of paying attention to state and federal laws and regulations.

Kaye & Mills can help your company evaluate and calculate the situation.

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